Wood v. Combustion Engineering, Inc.

• Decision Date: 24 April 1981
• Docket Number: No. 78-2498,78-2498
• Citation: 643 F.2d 339
• Parties: , Fed. Sec. L. Rep. P 97,962 David L. WOOD, R. E. Evans, Tommy J. Head and David Tirey, Jr., Plaintiffs-Appellants, v. COMBUSTION ENGINEERING, INC., Defendant-Appellee.
• Court: U.S. Court of Appeals — Fifth Circuit

Page 339

643 F.2d 339

72 A.L.R.Fed. 750, Fed. Sec. L. Rep. P 97,962

David L. WOOD, R. E. Evans, Tommy J. Head and David Tirey Jr., Plaintiffs-Appellants, v. COMBUSTION ENGINEERING, INC., Defendant-Appellee.

No. 78-2498.

United States Court of Appeals Fifth Circuit.

April 24, 1981.

Butler, Binion, Rice, Cook & Knapp, Hayden Burns, J. Nicholson Meindl, Houston, Tex., for plaintiffs-appellants.

Rosenman, Colin, Freund, Lewis & Cohen, Steven Wolowitz, Peter F. Nadel, New York City, Baker & Botts, Darrel E. Reed, Jr., Houston, Tex., for defendant-appellee.

Appeal from the United States District Court for the Southern District of Texas.

Before BROWN, GEWIN and POLITZ, Circuit Judges.

JOHN R. BROWN, Circuit Judge:

Appellants, four individuals, brought this action against Appellee, Combustion Engineering, Inc., claiming that they had been prompted to exchange their stock in another corporation for Combustion stock as a result of fraudulent misrepresentations, and omissions, on the part of Combustion. Appellants' complaint states a claim under the federal securities laws and a diversity claim under the Texas Blue Sky law. The District Court entered judgment dismissing the entire complaint. We find that the District Court correctly ruled that a two-year limitations period was applicable to Appellants' federal securities claim, that the doctrine of equitable tolling afforded Appellants no relief in this case, and that, therefore this claim was time-barred. We further find, however, that the District Court erred in dismissing Appellants' claim under the Texas Blue Sky law. Accordingly, we affirm in part, reverse in part, and remand this action to the District Court.

The Complaint: Wood Burned By Combustion?

The essential facts relevant to this appeal are not in dispute. Appellants, David L Wood, R. E. Evans, Tommy J. Head and David Tirey, Jr., claim that they are former stockholders of American Pole Structures Corporation. According to Appellants, in September 1973, they exchanged their American Pole stock for the stock of Appellee, Combustion Engineering, Inc., in connection with a merger between American Pole and a subsidiary of Combustion. Appellants allege that they were prompted to exchange this stock as a result of fraudulent misrepresentations of material facts by Combustion and by the failure of Combustion to disclose other material facts, but that they did not, and could not, discover the true facts giving rise to the fraud until May 7, 1974.

Appellants were originally members of a class which filed suit against Combustion in Federal District Court in Philadelphia on May 15, 1974. ¹ Appellants opted out of the class on October 7, 1975 with still seven months left to bring a private action within two years. Unfortunately, the instant action was not filed by Appellants in the Southern District of Texas until May 5, 1977 more than two years, but within three years, of the discovery of the alleged fraud.

Appellants' original complaint states two claims against Combustion: (i) that Combustion breached §§ 10 and 23 of the Securities and Exchange Act of 1934 (15 U.S.C. §§ 78j, 78w) and Rule 10b-5 (17 C.F.R. § 240.10b-5); and (ii) that Combustion violated § 33 of the Texas Securities Act (the Texas Blue Sky law) (Tex.Rev.Civ.Stat. 581-33 (1964)). For cause of action (i), the 10b-5 claim, Appellants invoke jurisdiction under § 27 of the federal securities Act (15 U.S.C. § 78aa). For cause of action (ii), the Texas Blue Sky law claim, Appellants invoke diversity jurisdiction (28 U.S.C. § 1332) and pendant jurisdiction.

On June 2, 1978, the District Court entered final judgment dismissing Appellants' entire cause of action against Combustion. The District Court held Appellants' 10b-5 claim to be time-barred finding (i) that a two year statute of limitations is applicable to 10b-5 claims in Texas, and (ii) that the statute of limitations was not tolled during the pendency of the class action of which Appellants were, at one time, members. As for Appellants' claim under the Texas Blue Sky law, the District Court first, without express stated reasons, refused to allow Appellants to file a First Amended Complaint, which had been proffered to the Court. ² The Court then, again without express stated reasons, dismissed this claim against Combustion.

The Appeal: Several Burning Issues

It is from this dismissal of the entire cause of action that Appellants now appeal. Appellants claim first that the District Court erred in finding a two-year, rather than a three-year, statute of limitations period applicable to 10b-5 claims in Texas. Appellants further contend that the District Court erred in failing to find that the limitations period was tolled during the pendency of the class action. Finally, Appellants claim that the District Court erred in dismissing their claim under the Texas Blue Sky law.

(i) Statute Of Limitations: The Long Or Short Of It

Appellants claim that the District Court erred in finding a two-year, rather than a three-year, statute of limitations applicable to 10b-5 actions in Texas.

The 1934 Securities and Exchange Act itself fixes no specific period of limitations within which a private litigant must bring a suit for damages. Nor is any federal statute of limitations generally applicable to private suits for damages under § 10(b) and Rule 10b-5. Accordingly, courts have been forced to fix, as a matter of federal common law, appropriate limitation periods. This Circuit has adopted a basic rule of general applicability in determining the appropriate limitations period in private 10b-5 actions:

(A) court should apply the period which the forum state applies to the state cause of action bearing the closest substantive resemblance to the implied cause of action arising under the federal securities laws.

McNeal v. Paine, Webber, Jackson & Curtis, Inc., 598 F.2d 888 (5th Cir. 1979). This basic rule enunciated in McNeal is consistent with the historical practice of this Circuit of making reference to the substantive law of the forum state in 10b-5 actions, ³ and this practice has met with the evident approval of the Supreme Court. ⁴ Although application of this rule inevitably forces us into making an "essentially esoteric" inquiry, McNeal, at 892, in the absence of congressional action we are obliged to follow this basic rule in this case.

The forum state in this case is Texas. In regard to Appellants' 10b-5 claim we must, therefore, choose between applying the two-year statute of limitations applicable to actions brought under § 27.01 of the Texas Business and Commerce Code (the general fraud statute), ⁵ or the three-year statute applicable to actions under the Texas Blue Sky law. ⁶ Prior to making this choice, we deem it appropriate to set out the language of the rule and statutes which we must analyze, and to then briefly review the decisions of other Federal Courts which have been faced with this same question.

Rule 10b-5, which is the cornerstone for the implied cause of action under the federal securities laws, provides:

It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails, or of any facility of any national securities exchange,

(a) To employ any device, scheme, or artifice to defraud,

(b) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading, or

(c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person,

in connection with the purchase or sale of any security.

The Texas general fraud statute (Tex.Bus. & Comm.Code § 27.01) provides:

Fraud in a transaction involving real estate or stock in a corporation or joint stock company consists of a (1) false representation of a past or existing material fact, when the false representation is (A) made to a person for the purpose of inducing that person to enter into a contract; and (B) relied on by that person in entering into that contract ....

Finally, the Texas Blue Sky law provides:

A. Any person who ... (2) Offers or sells a security ... by means of any untrue statement of a material fact or any omission to state a material fact necessary in order to make the statements made not misleading (when the person buying the security does not know of the untruth or omission, and who in the exercise of reasonable care could not have known of the untruth or omission) is liable to the person buying the security from him ....

A number of Federal Courts have considered the same question which faces us, that is whether the two-year statute of limitations of the Texas general fraud statute or the three-year limitations period of the Texas Blue Sky law should apply to actions under 10b-5. It is perhaps a good reflection of the abstruseness of this question that the holdings of these cases are entirely irreconcilable.

We have found three decisions, in addition to the decision of the District Court in the instant case, which indicate that a two-year statute of limitations is to be applied to actions under 10b-5 in Texas. In Hendricks v. Flato Realty, Fed.Sec.L.Rep. (CCH) P 92,290 (S.D. Tex. 1968), the Court suggested, by way of dicta, that the two-year limitations period was applicable finding simply that "(t)he cases which have considered whether to apply the limitation period for the forum state's Blue Sky law or the period applicable to common law fraud have consistently chosen the latter." Rather than engage in an independent analysis of the two Texas statutes, the Court merely followed what it perceived to be a trend in other cases. In Carpenter v. Hall, 311 F.Supp. 1099, 1107 (S.D. Tex. 1970), the Court merely proceeded under the assumption that the two-year limitations period was applicable to 10b-5 actions, but found that the statute was...